Practice Test Questions

NPV factor formula

1 / (1+i)^n

ARR formula / process

= average net profit / initial investment remember to account for depreciation (purchase-salvage/years) no unambiguous decision rule

In applying the Capital Asset Pricing Model (CAPM) to estimate a firm's cost of equity capital, the beta coefficient (β) in the model represents

A measure of the sensitivity of the firm's stock return to fluctuations in the returns of the overall market.

What does the modified internal rate of return (MIRR) assume for the duration of the project?

All positive cash flows are reinvested at a particular rate of return.

A 15% internal rate of return (IRR) on a proposed capital investment indicates all of the following except:

An acceptable capital project if the cost of capital is 16 percent or higher.

When the net present value (NPV) of a project is calculated based on the assumption that the after-tax cash inflows occur at the end of the year when they actually occur uniformly throughout each year, the net present value (NPV) will:

Be slightly understated but probably usable.

What can the weighted average contribution margin ratio be used for?

Breakeven and profit planning for sales volume expressed in dollars (Y) rather than units (Q).

Regression analysis is better than the high-low method of cost estimation because regression analysis:

Can provide greater precision and reliability.

degree of operating leverage formula

Contribution Margin / Net Income

A useful concept for solving production-planning problems involving multiple products and limited resources is:

Contribution per unit of scarce resource.

Which one of the following is true for the internal rate of return (IRR) method?

Depending on the pattern of after-tax cash flows, multiple IRRs for a given proposed investment are possible.

A cost is not relevant for decision making if it:

Does not differ for each option available to the decision maker.

In capital budgeting, the accounting rate of return (ARR) decision model:

Does not provide an unambiguous decision criterion (rule) regarding the acceptance of capital investment projects.

Research has shown that in framing capital investment decisions past (i.e., "sunk") costs or losses tend to:

Escalate commitment in making capital budgeting decisions.

Variable cost per unit increases proportionately with increases in volume of activity.

False

While the total amount of fixed cost changes with the level of production, fixed cost per unit remains constant as volume changes.

False

BEP in dollars formula

Fixed costs /CM ratio

Variable costs will generally be relevant for decision making because they:

Have not been committed and are likely to differ between decision alternatives.

Given two projects with the same total (i.e., project lifetime) cash flow returns (CFRs), the internal rate of return (IRR) method of capital budgeting would favor a proposal having yearly CFRs that were:

Heavier towards the beginning of a proposal's life.

Which one of the following methods assumes (inherently, according to some) that all interim cash inflows generated by an investment earn a return equal to the internal rate of return (IRR) of the investment?

IRR

Which of the following is always true regarding the net present value (NPV) decision model?

If a project is found to be acceptable under the NPV approach, it would also be acceptable under the internal rate of return (IRR) approach.

Cost-volume-profit (CVP) analysis is a technique available to management to understand better the interrelationships of several factors that combine to determine a firm's operating profit, πB. As with many such techniques, the accountant oversimplifies the real world by making assumptions. Which of the following is not a major assumption underlying a conventional CVP analysis?

In multi-product situations, the sales mix changes as volume changes.

Why might relevant costs analysis be bad for a company if used too frequently?

It overemphasizes short-term goals and neglects long-term goals.

A capital budgeting model that accounts for an assumed rate of return on interim-period cash inflows from an investment is the:

MIRR

When there are two or more cost drivers, regression is termed:

Multiple

profitability index formula

NPV / initial investment no unambiguous decision rule, higher the better

NPV formula

PV of all cash flows MINUS initial investment accept if positive

CM income statement format

Sales -VC ------- CM -FC ----- Income

Which of the following statements regarding a joint production process is not true?

The allocation of joint (common) production costs to individual products helps management determine which products should be processed beyond the split-off point.

In the situation where a firm produces multiple products and has a single resource constraint (e.g., machine hours), the most profitable use of available capacity (machine hours) requires that we assess:

The contribution margin of each product per machine hour.

What two factors make up a relevant cost?

The cost differs among options and is discretionary.

Which of the following gives the capital asset pricing model (CAPM) equation in words?

The expected rate of return on a stock is equal to the risk-free rate plus the specific stock's beta coefficient times the market risk premium.

The 95% confidence range for a prediction of monthly manufacturing cost using the model is:

The range of +/− $47.06 × 2 = $94.12 around the predicted amount

When deciding whether to discontinue a segment of a business, managers should focus on:

The total contribution margin generated by the segment relative to any traceable (avoidable) fixed costs associated with the segment.

Cost-volume-profit (CVP) analysis with multiple products assumes that sales will continue at the same mix of products, expressed in either sales units or sales dollars. This assumption is essential, because a change in the product mix will probably change:

The weighted-average contribution margin (per unit or ratio).

The identification of cost drivers is perhaps the most important step in developing the cost estimate because:

There may be a number of relevant drivers, some not immediately obvious.

"Special sales orders," as this term is used in Chapter 11:

Typically come directly from the customer rather than through normal sales or distribution channels.

Fixed costs will often be irrelevant for short-term decision making because they:

Typically do not differ in total between decision alternatives being considered.

Technology and complexity issues often lead management to simplify and to:

Use linear estimation methods.

What is the hurdle rate for average-risk projects?

WACC

The Lower 95% and Upper 95% shown in the output suggests that:

We can be 95% confident that the coefficients of the independent variables will be within the ranges specified.

In what situation does management make trade-offs about the quantity of each product to manufacture?

When demand exceeds production capacity.

When does depreciation expense become a relevant cost?

When tax effects are considered in decision making.

before tax number formula

after tax number / (1-TR)

What is another name for a relevant cost?

avoidable cost

contribution margin ratio

contribution margin / sales

Which of the following costs is most likely to be classified as a variable cost?

direct materials

BEP in units formula

fixed costs / CM per unit

High-low and regression cost estimation methods are alike in that they both:

have an intercept and slope term

High operating leverage represents increased risk associated with relatively:

high cost in the firm's cost structure

payback period formula

if even cash flows: cost of investment / annual net cash flow if uneven cash flows: complete years + (remaining/following year CF total) no unambiguous decision rule

In performing short-term cost-volume-profit (CVP) analysis for a new product or service, the decision-maker would:

include only incremental fixed costs

A relatively low margin of safety ratio (MOS%) for a product is usually an indication that the product:

is riskier than a product with a higher MOS ratio

Which of the following statements regarding cost of capital is not true?

it is used to calculate IRR

Which costs are not traceable to individual products?

joint production costs

A cost that includes both fixed and variable cost components is called a:

mixed cost

Which of the following cost drivers pairs with product design cost as a cost to be estimated?

number of design elements

Simple regression analysis involves the use of:

one independent and one dependent

Operating at or near full capacity will require a firm considering a "special sales order" to potentially recognize the:

opportunity cost from lost sales

Without knowing the required rate of return (i.e., discount rate) used for capital investment projects, a company will be able to calculate and evaluate a project's:

payback period and ARR

net loss formula

sales - fixed costs

What can the margin of safety ratio measure?

the risk of 2 alternative products

Especially for projects with long lives, estimation of revenues (or benefits), costs, and cash flows is a difficult task principally because of:

uncertainty of future events